Thursday, January 3, 2013

Bubbling Up...1/3/13

The deficit isn't a result of spending. It is a result of policy: of fighting inflation, and encouraging growth. The deficit is a result of these two policies, done in a very bad way for a very long time.

Policymakers pushed down the quantity of money in circulation to fight inflation:

Graph #1: Money in the Spending Stream per Dollar's Worth of Output

At the same time, they encouraged growth, spending, and the use of credit:

Graph #2: Total Credit Market Debt Owed per Dollar in the Spending Stream

The honest and honorable goals of fighting inflation and encouraging growth turned us into a nation with no money and inexplicable debt. That is why the economy refuses to grow. That is why tax revenue is down and "slump-related expenses" are up.

And that is why we have trillion-dollar deficits.

Woj’s Thoughts - Hard to argue with Art’s take on the matter. I might add that encouraging growth through private credit creation has also led to more wealth accumulation through capital gains. Subsequent policies that largely excluded capital gains from taxation exacerbated the above trends and can probably help explain a significant portion of wealth inequality witnessed today.2)Why economics is rubbish, episode 324. by Sell on News @ MacroBusiness

It is an especially extreme example of scientism. It leads to a sort of homogenous nonsense. As the historian of science Stanley Jaki commented, such confusions are deadly to science itself. “By assigning unlimited relevance and competence to the scientific method, scientism rules out precisely that test. By setting quantitative exactitude as the only and supreme test of truth, scientism robs of meaning the world of qualities and values. By the same stroke it makes science meaningless as well. He then quotes GK Chesterton:

“Science, which means exactitude, has become the mother of inexactitude. This kind of vagueness in the primary phenomena of the study is an absolutely final blow to anything in the nature of science. man can construct science with very few instruments .. a man might measure heaven and earth with a reed, but not a growing reed.”

That latter point is crucial. The metrics used to “measure” economic and financial behaviour are growing reeds, they do not stand still. They grow in the minds of those who use them, used for trading strategies, to formulate polices, for the basis of consumer sentiment. Even if the quasi-scientific economic abstractions worked, they would not work.

So it may be the case that Japan is in the process of resuming it’s traditional dollar and euro buying, which can move the currency to whatever level it desires. Which is probably back to north of 100 to the dollar?

Lastly, there is a record yen short position being reported. While this could mean it’s getting over sold and subject to a rally, it could also mean insiders have been tipped off to this policy shift and will profit immensely.

Caveat: If all the noises around the coming election and weak yen policy result only in an increase in the inflation target and ‘unlimited qe’ involving only yen financial assets, that policy will only serve to make the yen stronger and a wicked short covering scramble will follow.

Nothing short of buying fx, directly or indirectly, will do the trick.

Woj’s Thoughts - In arecent post on the re-election of Prime Minister Abe, I mentioned that the likely outcome was merely stepped up monetary policy tied to relatively restrictive fiscal policy. There has been no mention yet of direct fx purchases (that I’m aware of). If I’m correct that Japan will limit itself to NGDP targeting through unlimited QE, than investors should be wary of severe Yen strengthening in the not too distant future.

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